CCH/TEO Question of the week

Ms A purchased a residential rental property in April 2019.

After three years renting the property, she has decided to move into the property and make it her family home. She is concerned whether the bright-line test applies to her once she moves.

Her concern arises from the Inland Revenue's IR264 Rental Guide at page 39 which states:

"If you stop renting your own home and move back into it (or move into a property you have been renting), for the purpose of depreciation you treat this as if you’ve sold the property.
Although that particular paragraph is talking about depreciation recovery, she is concerned the same principle applies to the bright-line test.

If Ms A moves into the property that she has rented for only three years, will she be subject to the bright-line test and have to pay tax on the profit between the property’s current market value and its original cost?

The bright-line test in the Income Tax Act 2007 applies only to disposals of residential land. The 5-year bright-line test that applies in this case is found at s CZ 39 (as the property was purchased in April 2019).

In the "Moving back into your own home" section of the IR264 guide, it expressly states that the property is treated as being sold for the purposes of depreciation. This is because s EE 47(2) deems a change in use (i.e. from taxable renting to private use) to be a disposal for the purposes of the depreciation rules. This does not create a disposal for any purpose other than calculating depreciation recovery income /loss on disposable.

Bright-line rules apply to residential property only when the property is sold, transferred, or otherwise disposed of within the relevant bright-line period. For there to be a disposal for the purposes of the bright-line test, there will generally need to be a change in ownership of the property.

Therefore, when a property owner moves into a property previously rented out, there may be depreciation recovery income to account for, but no bright-line tax will be imposed on any capital gain from the time of purchase to the change in use.

However, when the property is eventually sold, this may trigger a bright-line disposal, depending on how long Ms A lives in the property as her main home. Because the property was purchased in 2019 (ie before the main home-exclusion provision was changed in 2021) the relevant test is that found in s CZ 40; ie, the main home exclusion will apply if the property has been used as her main home for most of the bright-line period.

References:
Income Tax Act 2007, ss CB 6A, CZ 39, CZ 40 ,EE 47(2).

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